Japan Equities–Sector picks

With the relief rally in global equities over the past month, Japan equities recovered some lost ground from May's sell-off but gains continued to trail world equities year-to-date, presenting several select opportunities.

Historical trends--PMI new orders and Japan's electronic components valuations tend to move together positively. Recent trends indicate that electronic indicators may be approaching the bottom of the cycle.

Leading supplier of rechargeable batteries,beneficiary of MLCCs and sensors demand growth.

Senors and polymer batteries needed in wearables and IoT.

Impact of Huawei ban looks mostly priced.

Nidec Corp (6594 JP)

Massive motor demand from autos, robots and white appliances.

More requirements for power efficient motors due to environmental regulations which is supportive of potential increase in demand for Nidec.

Undergoing restructuring to improve operations.

Nintendo (7974 JP)

Positive outlook on new Switch version to be launched, which should enable longer lifespan. Portable consoles have longer life spans than home consoles, as well as a later peak (3rdor 4thyear as compared to1st/2ndyear for home consoles)

Attractive pipeline can be maintained through efficient use of its resources.

Strong first-party software implies it could be less affected by the threat of cloud gaming (e.g. Stadia by Google). Stadia is not a subscription service: it also charges by the number of games you buy. Companies such as Nintendo and Sony may lose out because additional console costs are incurred for consumers.

Nintendo can provide more attractive games by consolidating two consoles in order to focus resources on one platform. The company generates most of its profits from first-party games so impact is likely to be less severe. In addition, it has the option to sell its games on other platforms, with 85% of Nintendo's software revenue from first party games versus Sony (20% of software revenue from own games). Sony generates most of its profits from third party games and thus it has a larger risk of losing to Stadia.

Hardware sale contributes to 40-50% of revenue, but it does not generate much profit as most profit is derived from its games.

2. Japanese Financials and Property

Due to a tough operating environment, bank sector valuations have declined and currently look attractive for long term investors (e.g. MUFG trades at about 0.4x p/b).

Banks and securities are in secular decline. However, even with flat earnings, we can expect dividend growth. Preferred pick: Sumitomo Mitsui Financial Group (8316 JP). Capital ratios are quite high;stronger earnings trend as compared to other banks. Also, SMFG is cheap because interest rates on bank loans have been decreasing, but flat earnings growth domestically (growth mostly derived from overseas markets).

Key consumer sector picks are Seven & I Holdings (3382 JP), given it is unlikely they will change their 24-hour operation business model in the short term) and Yakult Japan's ageing population and rising health consciousness are suitable fits for Yakult's products).

Tokyo summer Olympics may also provide a boost for the Japan consumer market.